Should I overpay on my mortgage?

Q My wife and I have a 10-year fixed-rate mortgage with the Co-operative bank. The mortgage has an overpayment option. Any overpayment goes into a fund that I believe immediately counts against the outstanding balance when calculating interest. We can access the fund and withdraw the money at any time, subject to a few restrictions.

If we overpay, is it the equivalent of putting the money into a savings account with the same interest rate as our mortgage? Put another way, if we have £500 spare one month, should we pay it into our mortgage overpayment fund, or into a savings account? Currently, our savings account earns less interest than we are charged on our mortgage.

AP

A Yes, making an overpayment on your mortgage is the equivalent of putting money into a savings account with the same interest rate as your mortgage. Except that it's better than that because the interest you save by reducing the mortgage debt isn't taxable whereas interest earned on savings is.

For example, if your mortgage interest rate was 5%, making an overpayment of £500 would reduce your annual mortgage interest bill by £25. Investing that £500 in a savings account paying, say, 4% would earn you only £16 in yearly after-tax interest if you are a basic-rate taxpayer - or a mere £12 if you pay tax at the higher rate.

So the figures suggest that you'd be better off overpaying your mortgage. That said, if you could find a tax-free savings account paying the same rate as your mortgage, there would be no difference between saving and overpaying.